By BRETT DAVIDSON
Financial planning firms that understand their numbers outperform those that don't.
Because they can pinpoint where the issues are and fix them. They spend their time working on the right issues.
Let's consider profitability
Are you making as much as you could or should?
It's a question every business owner asks themselves periodically.
To answer that question, you need to know that there are two profitability numbers to focus on: Gross Profit and Net Profit. Each one tells you different, but important, information.
Let's look at Gross Profit.
How do you calculate it?
Turnover – Direct Expenses* = Gross Profit
Gross Profit / Turnover = Gross Profit Margin (%)
(*Direct Expenses is any money paid to advisers or selling directors of the firm)
Here are a few questions for you to consider:
What's your Gross Profit Margin? Is it at least 60%? That's what good looks like.
If your Gross Profit Margin is less than 60%, why is that the case? Do you pay away too much of your revenue to the sales people within your business?
As I'll show you in a minute, it's going to be very hard to achieve a decent level of Net Profit if your Gross Profit is low.
When firms are paying away too much to the advisers, it's often because the value proposition to the advisers is weak.
If there's little or no training provided, again, it's probably reasonable for the advisers to demand a higher split of revenue, as they're responsible for their own training and development.
From your point of view as an owner, this is not ideal. Who knows if they actually spend some of their extra earnings on their own training, or if they just pocket the cash?
Ideally it's centralised. That provides some efficiencies across the business and leverages the time of advisers, so they can spend more time rain-making and seeing clients.
Centralisation also allows owners to have some control over quality; to be sure that any advice going out is compliant.
You definitely don't want a firm where all the advisers do their own thing.
What about overhead?
The next important number in your profitability calculations is your Overhead Percentage.
How do you calculate it?
Basically, all other expenses, other than what you pay to advisers or selling directors of the firm, is considered overhead.
Wages (for practice managers, administrators, paraplanners, receptionists, outsourced staff)
Printing and stationery
Like I said, everything except what's paid to advisers.
Overhead / Turnover = Overhead Percentage
What does good look like for your Overhead Percentage?
The guidance I’ve seen internationally is that overhead shouldn’t exceed 35% of turnover. And it’s not easy to hit.
What I can tell you is that for a UK business with a Practice Manager in place, 40% – 45% of revenue is what good looks like.
Which leads us to Net Profit
Why are we interested in Overhead Percentage?
Gross Profit – Overhead = Net Profit
And it’s the bottom line figure of Net Profit that will help you know if you are performing as a business, and earning what you could or should earn from your business asset.
The target Net Profit figure you should be aiming for is 25%. That is, 25% of your turnover, AFTER everyone on the team, including you and your fellow owner directors, get paid a full-whack market salary for your day job.
The profit should be just that: profit.
Lots of firms I speak to casually, tell me they earn a 40% net profit margin. What they really mean is there’s about 40% of turnover left over after expenses. From that 40% the owner directors or partners take their earnings.
There’s nothing wrong with doing that, but that’s not net profit.
What they should calculate is what’s left over after taking a reasonable level of drawings, reflecting their worth in the marketplace. And is the “what’s-left-over” anywhere near 25% of turnover?
Once you start to look at your profitability numbers this way, even more questions arise:
What's your net profit margin? Is it at an acceptable level (25%)?
If not, where is the squeeze coming from; gross margin too low, overhead too high, or both?
What might you do about fixing the issue?
How would it feel if you could get to a 25% net profit margin and be paid a market salary for your role within the business?
These are the issues the great financial planning business owners are working on, over and above their all-consuming focus on delivering great advice for clients.
Getting your client care and your business performance both working in harmony is one of the keys to making your business fun and financially rewarding.
Failure in either of these areas (client care or business performance) can make the fun leave the building really, really quickly.
Just knowing what good numbers look like, and how to work your way to hitting them, is an important part of running a great financial planning business.
BRETT DAVIDSON is chief executive of FP Advance, a boutique consulting firm that specialises in working with growing and aspiring financial planning firms.